Exploring Regtech: How Reg Tech Addresses Financial Crime?

This article will delve into the concept of Regtech, the impact of virtual assets on financial regulation, the unique forms of financial crime associated with cryptocurrencies, and how to achieve effective regulation of virtual asset transactions under Hong Kong's compliance framework.

Regtech ( Reg Tech ) Overview

Regtech refers to the technology used to maintain regulatory compliance, aimed at ensuring that industries and consumers adhere to the rules and regulations set by law. It is similar to the braking and safety mechanisms of a supercar, which not only ensure that the "engine" runs well but also guarantee that this "financial fast track" can come to a safe stop and be used.

Regtech is primarily applied in the financial industry, as stable, efficient, reliable, and fair finance is crucial for social development. Governments around the world are committed to establishing rules to ensure financial stability, detect, and prevent financial crimes, while financial institutions must comply with these rules and demonstrate compliance to regulatory authorities.

Due to the high complexity of modern finance and its technology-driven nature, Regtech helps to achieve automation and simplification of compliance. Many financial institutions and regulatory bodies are utilizing Regtech solutions to automate processes, ensure compliance, monitor markets, and combat criminal activities.

The Impact of Virtual Assets on Financial Regulation

Virtual assets, blockchain, and decentralized finance ( DeFi ) bring new challenges and opportunities for financial regulation. Compared to traditional financial markets, the virtual asset market has the following characteristics:

1. 24/7 Operations: The virtual asset market operates 7x24 hours and requires real-time monitoring.

2. No Borders: Virtual asset trading transcends geographical boundaries, increasing regulatory challenges.

3. Technical differences: For example, Ethereum transactions have 18 decimal places, far exceeding traditional stock trading, requiring specialized data processing methods.

4. Decentralized Structure: Anyone can easily create new tokens or exchanges, leading to new forms of theft and manipulation.

5. High Transparency: Blockchain-based finance is actually more conducive to regulation, as seen in the BitFinex case in the United States, where criminal activities were recorded on the blockchain.

These characteristics require financial companies and regulatory agencies to adjust their compliance and Regtech capabilities when adopting virtual assets, integrating traditional financial best practices and adding new technological elements to address the unique challenges of virtual assets.

KYC, AML, and MAR in the Virtual Asset Market

In the virtual asset market, KYC( Know Your Customer), AML( Anti-Money Laundering), and MAR( Market Abuse Regulation) require new approaches:

1. KYC: Centralized exchanges are increasingly requiring comprehensive KYC, but permissionless DeFi applications typically do not require it. Regulated crypto companies must have on-chain Regtech capabilities to ensure the legitimacy of fund sources.

2. AML: Cross-monitoring of on-chain and off-chain activities is required to prevent complex money laundering techniques.

3. MAR: It is necessary to implement encrypted native methods to monitor numerous virtual asset transactions both on-chain and off-chain, to prevent cross-asset manipulation, cross-market abuse, smart contract fraud, etc.

Unique Financial Crimes in Cryptocurrency

1. DEX Insider Trading: Research has found that 56% of DeFi tokens listed on major exchanges have insider trading activities on decentralized exchanges, which is much higher than the estimated ratio of 10-20% in traditional markets.

2. Smart Contract Rug Pull Scam: Scammers create a new scam token every 4 minutes on average. These tokens are built using malicious code, preventing investors from recovering their funds. In 2022, it is estimated to have affected over 2 million people.

Although these issues highlight the risks of open systems, the transparency of blockchain also allows these problems to be identified and addressed more quickly.

Regulation of Virtual Asset Trading in Hong Kong

Hong Kong is at the forefront of advanced cryptocurrency regulation globally. The latest guidelines released by the Hong Kong Securities and Futures Commission provide a comprehensive and specific licensing framework for virtual asset trading platforms.

According to the regulations of the Securities Regulatory Commission, platform operators must adopt effective market monitoring systems to identify, monitor, detect, and prevent market manipulation or abuse activities. This requires Regtech solutions to be able to:

• Regularly test the system
• Quickly detect and report suspicious issues to the Securities Regulatory Commission
• Monitor transaction anomalies
• Monitor on-chain transactions and their sources of funds
• Unified management of compliance and risk on a single platform

Overall, effective regulation of virtual asset transactions requires combining traditional financial regulatory experience with native crypto technologies to establish a comprehensive monitoring system to address the unique challenges of this rapidly evolving field.